The recently concluded transfer pricing assessment by income tax authorities for assessment year 2003-04 has resulted in an increase in profits of foreign banks by over Rs 100 crore for 2002-03.

This essentially means that banks will have to pay higher income tax. Foreign banks pay 40 per cent income tax on their profits. The aggregate net profit from Indian operations of 36 foreign banks in 2002-03 was Rs 1,820 crore.

Transfer pricing refers to the cost at which goods or services are transferred between countries within the same organisation.

The increase in profits resulted from adjustments made to banks income by IT assessment officers.

The adjustments made relate to cost allocations to Indian operations by headquarters and income accruing to Indian branches for bagging mandates from companies for services including overseas fund raising, banking sources said.

Section 92C(3) of the Income Tax Act empowers transfer pricing officers to determine the arms length pricing in relation to international transactions.

The income tax assessment officer then computes the total income of the assessees on the basis of the adjustments made by transfer pricing officers.

The arms length principle uses the behaviour of independent parties as a guide or benchmark to determine how income and expenses are allocated in international dealings between related parties.

It involves comparing what a business has done and what a truly independent party would have done in the same or similar circumstances.

A spokesperson of Standard Chartered Bank in India said: Transfer pricing is a new phenomenon and is still evolving. Hence, it is normal a practice in transfer pricing assessments for the I-T department and assessee companies to deliberate on submissions made.

There are no significant issues pending with the I-T department with respect to transfer pricing and we are very happy with the progress made. An executive of a European bank admitted that transfer pricing is an issue but refused to comment on it officially.

The issues primarily relate to costs allocated to Indian operations by headoffices of foreign banks for centralised services performed and income earned for marketing of services such as overseas fund raising and derivative products.

Similar issues are likely to arise during transfer pricing assessments for assessment year 2004-05, which are about to begin now.

Vispi Patel, head and partner, transfer pricing, at RSM Advisory Services, said: Establishing transfer prices for related party services has become a dynamic and complex area of international tax.

For the taxpayer, demonstration of the arms length nature of receipt of such services, legal contracts and the document

This documentation process will provide the necessary rationale for tax authorities to accept the legitimacy of such intra-group charges.